Demystifying Transferable & Divisible LCs


Here's a simple explanation of Transferable LCs, using a gift card analogy:

Imagine a Letter of Credit (LC) is like a gift card from a big store:

  • The buyer (like a friend) buys the gift card for you (the first beneficiary).
  • The store (like the issuing bank) promises to let you use the gift card to buy whatever you want from them.

Transferable LC:

  • Like giving the gift card to someone else: You can transfer some or all of the gift card's value to another person (the second beneficiary).
  • Rules:
    • You can only transfer it once.
    • The second beneficiary can only use it at the same store, for the same types of items.

Here's how it works in trade:

  • Buyer: Opens the LC with their bank (issuing bank) for the first beneficiary (usually a trader or middleman).
  • First beneficiary: Requests to transfer part or all of the LC to a second beneficiary (usually their supplier).
  • Issuing bank: If they agree, amend the LC to allow the transfer.
  • Second beneficiary: Can now use the LC to get paid, even though they weren't the original recipient.

Benefits:

  • Flexibility: Helps traders who don't produce goods themselves pay their suppliers directly.
  • Confidentiality: Keeps the ultimate supplier's details private from the buyer.
  • Secure payment: Suppliers are assured of payment even if the trader defaults.

Common use cases:

  • Trading companies buying goods from manufacturers and selling to overseas buyers.
  • Subcontracting arrangements in construction or manufacturing projects.

Remember:

  • Transferable LCs add complexity, so use them strategically.
  • Ensure clear communication and documentation among all parties involved.
  • Work with experienced banks to smoothly manage transferable LC transactions.


Divisible LCs, using a pizza party analogy:

Imagine a Letter of Credit (LC) is like a pizza order for a party:

  • You (the buyer) place the order for a large pizza (the full LC amount).
  • The pizza shop (the issuing bank) promises to deliver it to your house (the main beneficiary).

Divisible LC:

  • Like cutting the pizza into slices: You can divide the payment into smaller amounts for different people (multiple beneficiaries).
  • Rules:
    • You must specify the exact amounts for each beneficiary in the LC.
    • Each beneficiary can only claim their designated slice.

Here's how it works in trade:

  • Buyer: Opens a divisible LC with their bank for multiple beneficiaries (suppliers).
  • LC specifies the exact payment amounts for each beneficiary and their shipment details.
  • Beneficiaries: Ship their goods independently and present their documents to the bank.
  • Bank: Verifies documents and pays each beneficiary their designated amount, even if others haven't shipped yet.

Benefits:

  • Efficiency: Streamlines payment for complex orders with multiple suppliers.
  • Flexibility: Allows partial shipments and payments as needed.
  • Risk mitigation: Can reduce financial exposure by spreading payments across different suppliers.

Common use cases:

  • Large-scale construction projects with multiple contractors.
  • Manufacturing orders involving components from different suppliers.
  • Commodity trading with partial shipments from various sources.

Remember:

  • Divisible LCs require careful coordination and clear documentation.
  • Ensure all parties understand their roles and responsibilities.
  • Work with experienced banks to manage divisible LC transactions effectively.

I hope this makes it clearer. Kindly reach out to me for your Trade Finance needs.

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